December 1, 2007

Fallout from the bursting of the housing bubble is rippling further and further out. In the last few days three state government funds have realized they are in big trouble and are experiencing "runs." And as a result, in the next few days we are likely to hear about the same thing happening in many other states. These are funds that cities put their cash into until it is needed to pay city employees, teachers, etc. The cities have people who understand finance watching the money, and they understood this so they started getting their money out. And because the fund had lost some of the money in mortgage-backed securities, it couldn't give money back to all of the cities, and had to say "no more withdrawals until this gets sorted out." The ones who asked for their cash first are OK, the ones who didn't will lose out.

This is exactly what could happen to money markets and banks as people realize this is their money everyone is talking about in the news. YOUR money. Find out where your money is, your parents' money, etc..

The crisis underscores how the upheaval in credit markets could spread to affect mainstream investors, institutions and their employees. In recent weeks, local authorities in regions as disparate as Australia and Norway have reported similar problems.

[. . .] Most of the securities were short-term debt backed by mortgages and other assets, and issued by off-balance sheet investment vehicles, many of which have run aground in the credit squeeze. Lehman Brothers sold most of the distressed assets to the Florida fund, people familiar with the sales said.

Florida halted withdrawals from a $15 billion local-government fund Thursday after concerns over losses related to subprime mortgages prompted investors to pull roughly $10 billion out of the fund in recent weeks.
. . . The decision shows how far this year's subprime-fueled credit crisis has spread. Florida's Local Government Investment Pool, which had more than $27 billion in assets at the end of September, is like a money-market fund that's supposed to invest in ultrasafe assets to provide participants with a secure place to stash spare cash. But even these types of funds have been hit by the widening crunch.
"It's spreading into areas that people didn't expect and this is a good example," Richard Larkin, a municipal bond expert at JB Hanauer & Co., said.

Controversy is heating up in the state over who is at fault for having put $20 million, about 3 percent, of the state's roughly $725 million cash pool this summer into an investment fund called Mainsail II -- two weeks before its sterling ratings crumbled to junk.

The investment met all of the state's investment criteria, but exposed the state to the mortgage market-related losses that have roiled credit markets for a few months.

Montana school districts, cities and counties withdrew $247 million from the state’s $2.4 billion investment fund over the past three days after officials said the rating on one of the pool’s holdings was lowered to default.

But don't think for even a minute this is limited to state government funds. It's just that the municipalities that had cash in those funds understood what was happening. MANY holders of money, especially money-market funds are in exactly the same situation, except the depositors in money-market funds are not necessarily as sophisticated as municipal finance officers, and don't yet realize what all of this means.

The billions of dollars in subprime losses are now tainting a mainstay investment vehicle whose safety consumers take for granted: the money market mutual fund. Bank of America, SunTrust, Wachovia and Legg Mason are among the institutions reportedly taking steps to prop up money market funds that contained worrisome securities. . . .

[. . .] Many money market funds have sought higher-yielding investments such as subprime mortgage-backed securities. High-yield funds don't get those yields by investing in government securities. For instance, according to Money Fund Intelligence, the average yield for the top-yielding prime individual money market funds is 5 percent, while the average yield for the top-yielding Treasury individual money funds is 4.39 percent.

Meet money manager Axel Merk... Recently, Merk took more than $100,000 of his personal savings out of money market funds. These funds take your cash and put it into highly rated -- and therefore, supposedly safe -- investments, giving you a set interest rate.

Problem is, some of them got entangled in the subprime mess. That's why Merk dumped his money market funds.

[. . .] You can't assume that all money market funds are safe. Remember, they're not insured by the FDIC. Now, banks do offer something called money market accounts. Just like savings accounts, they are protected by the FDIC, but they have a lower return.

That's right, this is a time to know where your money is. If you are not sophisticated enough to be reading a money-market prospectus - and you aren't - put your money in a bank up to the limits of FDIC insurance, or into treasury bills. Period. When everyone else is worried it will be too late to get your own money out. What do you have to lose by doing that? Why keep it where it is instead of getting it into a FEDERALLY insured back account, until all of this gets sorted out?

The question is, when do people realize that their own money might be at risk, and start asking for it? That is when it hits the fan, like it has with the Florida and Montana state funds. No one knows where all this mortgage risk is right now, and you don't want to be the one who asks for your cash just after the cash runs out.

Posted by Dave Johnson at December 1, 2007 12:16 PM

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Comments

what about a credit union account. we were told it was insured. we specifically asked because it was called a money market account

Posted by: marc sobel at December 1, 2007 1:01 PM

what about a credit union account. we were told it was insured. we specifically asked because it was called a money market account

Posted by: marc sobel at December 1, 2007 1:03 PM

Your account is most likely insured. A quick call to your credit union should alleviate any concerns.

Most credit unions are federally insured like banks through the NCUA. Some carry private insurance.

As long as you just put your money into an "account" as opposed to a "fund" you should be safe.